401(k) and Retirement: Leave It Alone If You’re Filing For Bankruptcy

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In an effort to avoid bankruptcy,  many people who are falling on times of financial distress will start tapping into their retirement savings to stay afloat and attempt to ward off creditors.  However, this is one of the biggest mistakes you can make for several reasons: first, that money is protected from creditors, even if you file bankruptcy; second, it might be wasted payment since that particular debt could potentially be discharged in a Chapter 7 bankruptcy (or reduced in a Chapter 13 bankruptcy). 

Any money that you have saved for retirement or have placed in a 401(k) program is exempt in a bankruptcy.  This means that these are funds your creditors cannot touch, even if you qualify for a Chapter 7 and your assets are liquidated to pay off your creditors.  Federal bankruptcy laws ensure that this money is protected so that you can (hopefully) avoid bankruptcy in the future and have a solid foundation for rebuilding your life and financial goals.  So if this money is protected from creditors, why would you willingly give it to them? 

Another thing to keep in mind is that if you are tapping into savings that you have put aside for your retirement, something is not right with your budgeting and month-to-month living expenses.  It might work to mend your situation temporarily or get a creditor off of your back for the short-term, but how long can this last?  Even if you are able to use these retirement funds as a temporary fix to your financial situation, what about the long-term outlook?  If you find that you are not able to make ends meet, your first efforts should be in clearing away some debt through bankruptcy (if necessary) and living within a more realistic budget—not taking away from your savings for the future.  These are the best steps to getting back on track financially, and you can take them with your retirement savings intact. 

Top Five Things To Avoid Before Filing Bankruptcy

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If you have plans to file a Chapter 7 or Chapter 13 bankruptcy in the near future, or have already begun the process, you have to begin planning carefully to ensure that the bankruptcy is granted and you’re your financial future will begin on more solid footing once the discharge is complete.  Therefore, there are certain mistakes you should avoid in order to ensure you don’t end up in hot water with the bankruptcy trustee or even have your case dismissed. 

#5 – Stop all use of credit cards

When you know you plan to file bankruptcy and continue to use credit cards (with the intention to avoid paying), that debt could become non-dischargeable.  This is especially true if you purchase items that aren't necessities or luxury items, such as vacations. 

#4—Don’t transfer property

A bankruptcy trustee might ask for details concerning any property transfers made within the past 6 years, particularly focusing on any made within 1 year before filing bankruptcy.  If the trustee finds that the property transfer violates rules relating to the bankruptcy code, that transfer might be voided and the recipient of the property might be forced to return the property to the trustee. 

#3—Avoid repaying money you've borrowed from friends and family

Due to bankruptcy code, any transaction in which you've repaid money that was loaned to you by friends or family could be recovered from the people to which you've paid the money. 

#2—Avoid paying more than $600 to one creditor

In the same sense that money paid to friends and family can be recovered, payments exceeding $600 to any one creditor can also be recovered by the trustee. 

#1—Avoid cashing out on your 401k or retirement plan

Your retirement plan or 401k is protected by the bankruptcy code and if you’ve withdrawn any money from such plans or cashed them in, your trustee will likely void those transactions as preferences.  

What are priority debts and how are they treated in bankruptcy?

Different Types of Debt and How They’re Treated in Bankruptcy

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Many people have questions regarding how their debts will be handled after filing for bankruptcy and the answer depends on the type of debt that is owed.  Most debt falls under the following categories:  secured debt, general unsecured debts and priority debts.  Each will be handled slightly differently in your bankruptcy. 

Secured Debts

A secured debt is a debt that is secured by collateral.  These types of debts include car loans, mortgages or any other debt when there is property that can be repossessed or taken if the debt isn’t paid.  In most cases, if you want to keep a secured debt, you can do so while still wiping out your other debt. Converselly, if you are ready to walk away from your house or car, you can do that as well.When a secured debt is handled in bankruptcy, the trustee will consider the debt’s collateral versus how much is owed.  Also, some debts can be partially secured and partially unsecured, such as when you owe more on a home or vehicle than it is worth. 

General Unsecured Debts

Any debt that is not secured by collateral is known as an unsecured debt.  Most credit cards, personal loans, payday loans and medical bills fall into this category. 

Priority Debts

Priority debts are debts that receive priority because the law treats them as being more important than unsecured debts.  These debts usually include child and spousal support; the administrative costs of the bankruptcy case, including trustee fees and attorney fees; wages and other forms of compensation owed to employees if it is a business filing for bankruptcy; certain income taxes, and some other kinds of taxes.

How Each Category Of Debt Is Handled In A Bankruptcy

In a Chapter 7 bankruptcy, if assets are liquidated, the debts that are considered high priority are paid first; in many cases, the unsecured debts aren’t paid at all, or are only paid partially. 

In a Chapter 13 bankruptcy, the repayment plan created by your trustee will have all priority debts paid before the case is completed.  

Should I cash out my 401(k) to pay creditors and/or avoid bankruptcy?

What the Myth of Sisyphus Can Teach You About When It’s Time to File Bankruptcy

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How do you know if you are in over your head and the time has come to seriously consider bankruptcy? 

Consider this story:  In ancient Greek myth, there is a story of Sisyphus, who was a king condemned by the gods to roll a rock to the top of a mountain as an endless, repetitive task.  At the point in which the rock finally reached the peak, it would then roll back down to the ground, forcing the king to begin the monumental task of rolling it back up the mountain. 

Are you like Sisyphus when it comes to your finances?  Do you find that regardless of how much effort you put into trying to dig out of debt, the weight of it takes you right back where you started?  If so, then it’s time to seriously consider bankruptcy as a way to finally conquer your financial goals and put you on better footing.  No one should live paycheck to paycheck and it is a system that is unsustainable.  The first week that you miss a paycheck due to illness or job loss, you’re up the proverbial creek without a paddle.  That’s certainly no way to live! 

Read below and see if any of the following situations apply to you.  If one or more apply, bankruptcy is most likely your best option:

1. I spend more than 20% of my income on bills.
2. I have to use my savings sometimes to pay my monthly bills.
3. I often use my credit cards to pay for necessities because I don’t have the cash on hand.
4. I have more than four major credit cards that I use regularly.
5. I often have to call on friends/family to bail me out of financial distress. 
6. I have had to finance my car for six or more years just to make sure the payments were low enough for me to afford.
7. Whenever I apply for credit, I usually need a co-signer. 

If any of these sounds like you, give us a call for a free consultation.  305-663-3281